Ask Bill your personal finance question

HELOC Foreclosure

What will happen if I default on my HELOC loan?

What will happen if I default on my HELOC loan?

Read full question
Bill's Answer
3.5
/5.0
(5 Votes)

Updated: Oct 20, 2014

Bills.com | Find Learn Save

A Home Equity Line of Credit (HELOC) is akin to a credit card secured by property. No money changes hands until the consumer draws on the HELOC.

If you are current on your first mortgage and become delinquent on your HELOC (which is a form of second mortgage), the second mortgage lender has the legal right to foreclose on your house and property. However, it may not do so because of economic reasons, which I will discuss below.

Here is the good news: Lenders do not like to foreclose on mortgages because foreclosure offers a poor economic return. Lenders foreclose only as a way of limiting losses on a defaulted loan.

Generally speaking, when homeowners get behind on mortgage payments, lenders will work with them to bring the loan current. To do so, however, the owner must stay in communication with the lender and be honest about the financial situation. The lender's willingness to help with current problems will depend heavily on past payment records. If the owner made consistent timely payments and had no serious defaults, the lender will be more receptive than if the person has a record of unexplained late payments. Homeowners falling behind in payments or who know they are likely to do so in the immediate future should contact the lender right away to discuss alternative payment arrangements.

Foreclosure process, briefly

Either the first or second mortgagee can initiate a foreclosure. The foreclosure process varies from state to state, but generally takes from two to 18 months. It all depends on the terms of the loan and local state laws. However, normally if mortgage payments are not received within 150 days, the bank can proceed with the foreclosure process. The second mortgage would be repaid after the first mortgage is paid in full.

In fact, if the sale price is less than the value of the mortgages held against it, then in some states the homeowner could still owe an unsecured balance called a deficiency balance or deficiency judgment. The good news is that this new deficiency balance (if it exists and if your lenders pursue it) is an unsecured debt that may be enrolled into a debt settlement program.

In some states (such as California) and in some circumstances, the second mortgage may be what is called a non-recourse loan. A non-recourse loan means that the lender has no recourse to collect any deficiency balance against the borrower. Its only recourse is the security on the property itself. You will need to review your loan documents and state laws to determine if your second mortgage is a non-recourse loan. Contact an attorney in your state who is experienced in property law to determine for certain if your mortgages are recourse or non-recourse. (If you are a California resident, see Is My HELOC a Recourse or Non-Recourse Loan in California? to learn more.)

Second Mortgage Foreclosure

According to Bills.com readers I have spoken to and corresponded with, second mortgagees will initially take a hard-line stance in negotiations with homeowners in default. However, once the mortgagee is convinced the homeowner is sincere in their inability to repay the second mortgage and are considering bankruptcy, the mortgagee's position will soften and consider a lump-sum settlement. Readers report that some second mortgagees will settle for 10 to 30 cents on the dollar, depending on the policies of the company.

In the interest of full disclosure, it is possible legally, although not practical economically, for a second mortgagee (sometimes called a junior mortgagee) to foreclose and preserve its interests in the property. The junior mortgagee may pay off the first mortgage to preserve its own interest on the property. Because foreclosure destroys all interests that are junior to the mortgage being foreclosed, the junior mortgagee has the right to pay it off to avoid being wiped out by the foreclosure. The home equity lender may pay off the outstanding balance of the first mortgage and be subrogated to the bank's rights against the debtor.

As this is written in early 2010, it does not make economic sense for a junior mortgagee to redeem the first mortgage because property values in many areas are far lower than the mortgage balances on the attached properties. However, when property values recover the economics of this equation may reverse and we may see junior mortgagees exercise their right to redeem.

Alternatives to foreclosure

An agreement between the homeowner and mortgagee to prevent the loss of a home is called a loan workout plan. It will have specific deadlines that must be met to avoid foreclosure, so it must be based on what the borrower really can do to get the loan up to date again. The nature of the plan will depend on the seriousness of the default, prospects for obtaining funds to cure the default, whether the financial problems are short term or long term and the current value of the property.

If the default is caused by a temporary condition likely to end within 60 days, the lender may consider granting "temporary indulgence". Those who have suffered a temporary loss of income but can demonstrate that the income has returned to its previous level may be able to structure a "repayment plan". This plan requires normal mortgage payments to be made as scheduled along with an additional amount that will end the delinquency in no more than 12 to 24 months. In some cases, the additional amount may be a lump sum due at a specific date in the future. Repayment plans are probably the most frequently used type of agreement.

Forbearance

In some cases, it may be impossible to make any payments at all for some time. For those who have a good record with the lender, a "forbearance plan" will allow them to suspend payments or make reduced payments for a specified length of time. In most cases the length of the plan will not exceed 18 months and will stipulate commencement of foreclosure action if the borrower defaults on the agreement.

Making Home Affordable Refinance Program

If an Adjustable Rate Mortgage (ARM) reset or drop in income are causing the distress, the federal government home loan programs might be able to help. The Making Home Affordable Refinance Program (HARP) allows borrowers with mortgage debt of 80 percent to 125 percent of the home value to renegotiate the terms of their loan, in some cases without paying additional PMI.

Foreclosure is a serious situation that has serious repercussions. If you can, you want to avoid a foreclosure as much as possible. Bills.com is here to help. We also offer helpful guides, foreclosure FAQs, glossary terms, and other helpful tools to help you keep your home and avoid a bank repossession.

You can find more information on the Bills.com foreclosure page. See also the HUD page Avoiding Foreclosure. To learn more about negotiating a debt, read the Bills.com article Debt Negotiation and Settlement Advice.

I hope this information helps you Find. Learn & Save.

Best,

Bill

www.bills.com/

12 Comments

Recent Best
1500 characters remaining
  • HH
    Feb, 2014
    HH
    My husband cosigned on HELOC for his mom but his parents filed for chapter 7 BK in 2010, he did't. The HELOC lender has a lien against his parents' house. He wasn't aware of this at all and kept repaying the interest until Dec 2012. He pulled his credit reports this month and there's '120 past due as of May 2013'. Does it mean the late fee will keep adding until he restart repaying? His parents house has remaining balance of 460k for 1st mortgage which they make timely payments and the market value is 550k and the HELOC is 110k. What do you think the best solution for us to get rid of debt by paying minimum?
    0 Votes

    • BA
      Feb, 2014
      Bill
      There is no good solution here. Your husband has three options I see:
      • Make monthly payments on the HELOC
      • Stop making payments and endure the negative impact on his credit score. He may receive telephone calls and letters demanding he make payments.
      • File for bankruptcy

      The second two options I mentioned will have a negative impact on his credit score.

      0 Votes

  • LH
    May, 2012
    laura
    My 1st mortgage has been modified and in good standings. I kept my HELOC informed of my 1st mort modification & awaiting it's permanent payment, so I could be accurate w/my financial. I called my HELOC w/correct financial & to be set up on a payment plan 4 days after it was sent to foreclosure. Now they will only accept 50% of the past due amt which is $37000. What's the likability of a foreclosure. pls help
    0 Votes

    • BA
      May, 2012
      Bill
      There is no simple answer to your question. If a foreclosure would not bring any money to the second mortgage holder, because all money from a forced sale would go to your first mortgage holder, then the odds of foreclosure are reduced. However, it is up to the second mortgage holder to choose what to do. Do a little research online, to see if your lender has a reputation for aggressive action. If it has that reputation, seek a consultation with a lawyer.
      0 Votes

  • EH
    Apr, 2012
    Ernesto
    My property was foreclosed on by my first mortgage in 2010 and I also had a Heloc. I was told if a property gets foreclosed on the Heloc gets erased. Is that true?
    0 Votes

    • BA
      Apr, 2012
      Bill
      What I write in this paragraph assumes the property is situated in a state without an anti-deficiency law. As a general rule, no, juniors are not canceled, erased, or forgiven in a foreclosure. The senior loan is paid first out of the proceeds of the foreclosure sale, and the junior gets whatever is left over (if anything). The remaining deficiency balance is the no-former-owner's liability.

      If the property is in a state with an anti-deficiency law, then the general rule may not apply. See the Bills.com Anti-Deficiency page to learn more.
      0 Votes

  • CA
    Mar, 2012
    Carol
    We have a 1st mortgage and HELOC as a 2nd mortgage - both from when we refinanced 7 years ago and both held by Bank of America (we live in Michigan). The two mortgages are approximately even at about $45k each. With the many foreclosed homes in our area selling in the teens and low twenties we are definitely under water (definition DROWNING). My husband is retired and I am retiring next month. We are not late on our payments now but will no longer be able to keep that up in a very short time. We do have another home in Michigan that is paid for (it was a vacation home). Can we do a deed in lieu or short sale? What impact will the HELOC have on either option?
    0 Votes

    • BA
      Mar, 2012
      Bill
      I do not wish to be alarmist, but a second mortgage holder can wreak havoc in a short sale or deed-in-lieu-of-foreclosure. If it wants to muck-up a deal by demanding unreasonable terms depends on the circumstances of the sale, the negotiator, and so on.

      Here, let us assume for the sake of argument your property is worth $25,000. You mentioned the loans total $90,000. Both lenders here are getting haircuts, and bad ones at that. The negotiator for the second may look at the harrowing math and decide there is no use in putting up a fight, and may ask for a token amount to allow a sale. However, that does not mean you will not be liable for the deficiency balance.

      My advice? Spend an hour with a lawyer who has experience in your state negotiating with mortgage lenders. Discuss the possibility of negotiating a mortgage modification where the first agrees to modify the balance to a number near today's fair market value of the property. The advantage of this approach for the first is that it will be cheaper than you allowing a foreclosure. The advantage for you is staying in the property at a lower cost. Resolving the second is problematic. You may need to negotiate a lump-sum settlement for that. The second is another issue to discuss with a lawyer.
      0 Votes

  • LR
    Sep, 2011
    lily
    I WAS PAYING A HELOC BY MAKING DEPOSITS OF $400 INTO AN ACCOUNT AND TODAY A RECEIVE A COLLECTION LETTER ON THAT HELOC SO I CHECK THE BANK ACCOUNT AND THE MONEY IS STILL THERE, THE BANK NEVER TOOK IT (4 MONTHS). I AM REALLY WORRIED BECAUSE THAT HELOC IS UNDER THE OTHER HOMEOWNER OF THE HOUSE AND HE HAS HIS MAIN RESIDENCE. I AM THE CO-OWNER AND THIS IS MY MAIN RESIDENCE. I DON'T KNOW WHAT TO DO AND WHY THE BANK DIDN'T SENT ME ANYTHING BEFORE.
    0 Votes

    • BA
      Sep, 2011
      Bill
      Call the HELOC servicer and explain the situation. Send letters including copies of documents to show your intent to pay in a timely manner.
      0 Votes